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Germany’s corporate governance problem

Published in Business Spectator (Melbourne), 20 April 2015

volkswagenImagine the following scenario. A large company’s 78-year-old chairman and former chief executive, who also happens to be a major shareholder, fails in his bid to oust the current chief executive. The chairman’s attempt is rebuked not only by employee representatives on the board but also by the government, which controls a significant shareholding. As a result of the failed coup d’état, the chairman is forced to resign and, to the delight of the government and the company’s employees, a former head of a trade union takes over as interim chairman.

If this bizarre governance arrangement sounds too much like Africa or Greece, rest assured that it has nothing to do with either. In fact, the company in question is the world’s second largest car manufacturer after Toyota. And the soap opera this company delivered over the past weeks must be the one of the worst examples of corporate governance on record.

We are talking about Volkswagen, of course.

German corporate governance is an international oddity. In large companies, representatives of the workforce have half the seats on the supervisory board. It is a German peculiarity that goes by the name of Mitbestimmung, or literally co-determination. Fortunately for the owners of any German company, the chair of the board has to be a representative of the shareholders and his or her vote counts twice in case of conflict.

An additional complication in Volkswagen’s case is that the state of Lower Saxony holds 20 per cent of all voting shares. To make matters more confusing still, Porsche Automobil Holding SE (not to be confused with the car manufacturer Porsche AG), holds a 50.7 per cent majority of Volkswagen. Porsche SE is controlled by two family clans: the Porsche and Piëch families. It was the latter family, the Piëchs, which made for bad headlines over the past weeks.

Ferdinand K. Piëch, the head of the family, is one of the most successful automotive executives Germany has ever seen. The grandson of legendary inventor Ferdinand Porsche, he started his career at Volkswagen’s subsidiary Audi. In the 1970s and 1980s, Piëch was the driving force behind the transformation of Audi from a boring producer of unexciting cars to a premium manufacturer to rival premium brands such as BMW and Mercedes.

In 1993, Piëch took over Volkswagen at a time when the company was losing money. He successfully turned it around and eventually installed his protégé Martin Winterkorn as his successor (after a brief intermezzo by former BMW chief executive Bernd Pischetsrieder). From 2002 until last week, Piëch chaired Volkswagen’s board. Judging by the fact that Volkswagen made a profit of over 12 billion Euros last year, it should have been an enjoyable job for the chairman.

Piëch would have had good reason to be satisfied with his life’s many achievements and prepare for his scheduled departure from the board in 2017. Instead, he unexpectedly put Volkswagen in crisis when he told Spiegel magazine in mid-April that he was “at a distance to Winterkorn”.

Nobody knew why Piëch so suddenly distanced himself from his chief executive, let alone why he did so in public. Admittedly, there are some challenges in the vast Volkswagen empire which unites multiple brands (VW, Audi, SEAT, Škoda, Bentley, Bugatti, Lamborghini, Porsche, Ducati, Volkswagen Commercial Vehicles, Scania and MAN). VW’s margins could indeed be better, and the core brand is struggling in the US market.

But in a company of more than 200bn revenue and over 600,000 employees, there are always going to be segments showing weaknesses. The overall results, however, are impressive. Volkswagen is not only hugely profitable but also likely to dethrone Toyota as the world’s largest car manufacturer in the coming years.

Obviously, none of this was good enough for Piëch. By publicly sabotaging Winterkorn, he had hoped to remove him quickly. In the end, Volkswagen’s ownership structure and Germany’s codetermination system thwarted Piëch’s plans.

Piëch first found out about his isolation when the presidium of the board did not follow his lead. On this top committee of the board, three representatives of Volkswagen’s employees, the state premier of Lower Saxony and Piëch’s cousin Wolfgang Porsche sided together and supported chief executive Winterkorn.

After this initial defeat, Piëch briefly appeared to give up on his plan to oust the chief executive. But when he still tried to resume his destabilisation strategy, he was effectively forced to resign and kicked out of the company he once saved.

The result is a strange-looking Volkswagen AG. For the time being, it is chaired by Berthold Huber, Piëch’s deputy on the board. Huber is a senior trade unionist whose main interest is in the security of Volkswagen’s jobs, not the company’s profitability. The second winner in Volkswagen’s earthquake is Stephan Weil, Lower Saxony’s social democrat state premier. His concern is also to keep Volkswagen’s well-paid jobs in his state. And Martin Winterkorn is of course still chief executive, but it is now clear he is only still there because unionists and politicians see him as the guarantor of jobs.

Most business media have summarised the events of the past days as Volkswagen’s chairman Piëch losing a power struggle with Winterkorn.

In fact, it is worse than that.

Over the past weeks, it has become clear that nothing at Volkswagen will be done against the will of unionists and politicians. Only 12 per cent of Volkswagen’s total capital is held by the government, but in combination with the system of co-determination it means that company’s private owners are effectively powerless.

They are not able to install their preferred chief executives, nor would they ever be able to cut domestic jobs if required. Maybe that is also one of the reasons for VW’s disappointing margin which lags behind other brands in the Volkswagen empire.

If this was a large Greek company, controlled by the government and the unions, the German government would be quick to demand reforms in order to improve its governance. But this is a German company — and an important one for that matter — and Germany’s rules work differently.

Ferdinand Piëch’s attempted assassination of Volkswagen’s CEO may have been executed amateurishly. He should have consulted more widely before trying to remove Winterkorn. But at least it showed clearly what is wrong with corporate governance in Germany. Ultimate responsibility for a company’s fate should rest with the company’s owners who bear the residual risk of corporate failure.

In Volkswagen’s case, we see the transformation of a global car manufacturer into a de facto nationally owned company.

Which is already hinted in the name Volkswagen: the people’s car.

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